Download Economics of Money, Banking, and Fin. Markets, 10e, Global Edition

Economics of Money, Banking, and Fin. Markets, 10e, Global Edition (Mishkin)
Chapter 9 Financial Crises in Advanced Economies
9.1 What is a Financial Crisis?
1) A major disruption in financial markets characterized by sharp declines in asset prices and
firm failures is called a
A) financial crisis.
B) fiscal imbalance.
C) free-rider problem.
D) "lemons" problem.
Answer: A
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2) A financial crisis occurs when an increase in asymmetric information from a disruption in the
financial system
A) causes severe adverse selection and moral hazard problems that make financial markets
incapable of channeling funds efficiently.
B) allows for a more efficient use of funds.
C) increases economic activity.
D) reduces uncertainty in the economy and increases market efficiency.
Answer: A
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3) A serious consequence of a financial crisis is
A) a contraction in economic activity.
B) an increase in asset prices.
C) financial engineering.
D) financial globalization.
Answer: A
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9.2 Dynamics of Financial Crises in Advanced Economies
1) Financial crises in advanced economies might start from a
A) debt deflation.
B) currency crisis.
C) mismanagement of financial innovations.
D) currency mismatch.
Answer: C
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2) When financial institutions go on a lending spree and expand their lending at a rapid pace they
are participating in a
A) credit boom.
B) credit bust.
C) deleveraging.
D) market race.
Answer: A
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3) When the value of loans begins to drop, the net worth of financial institutions falls causing
them to cut back on lending in a process called
A) deleveraging.
B) releveraging.
C) capitulation.
D) deflation.
Answer: A
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4) When financial intermediaries deleverage, firms cannot fund investment opportunities
resulting in
A) a contraction of economic activity.
B) an economic boom.
C) an increased opportunity for growth.
D) a call for government regulation.
Answer: A
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5) A credit boom can lead to a(n) ________ such as we saw in the tech stock market in the late
1990s.
A) asset-price bubble
B) liability war
C) decline in lending
D) decrease in moral hazard
Answer: A
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6) Most U.S. financial crises have started during periods of ________ either after the start of a
recession or a stock market crash.
A) high uncertainty
B) low interest rates
C) low asset prices
D) high financial regulation
Answer: A
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7) If uncertainty about banks' health causes depositors to begin to withdraw their funds from
banks, the country experiences a(n)
A) banking crisis.
B) financial recovery.
C) reduction of the adverse selection and moral hazard problems.
D) increase in information available to investors.
Answer: A
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8) In a bank panic, the source of contagion is the
A) free-rider problem.
B) too-big-to-fail problem.
C) transactions cost problem.
D) asymmetric information problem.
Answer: D
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9) Debt deflation occurs when
A) an economic downturn causes the price level to fall and a deterioration in firms' net worth
because of the increased burden of indebtedness.
B) rising interest rates worsen adverse selection and moral hazard problems.
C) lenders reduce their lending due to declining stock prices (equity deflation) that lowers the
value of collateral.
D) corporations pay back their loans before the scheduled maturity date.
Answer: A
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10) A substantial decrease in the aggregate price level that reduces firms' net worth may stall a
recovery from a recession. This process is called
A) debt deflation.
B) moral hazard.
C) insolvency.
D) illiquidity.
Answer: A
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11) A possible sequence for the three stages of a financial crisis in an advanced economy might
be ________ leads to ________ leads to ________.
A) asset price declines; banking crises; unanticipated decline in price level
B) unanticipated decline in price level; banking crises; increase in interest rates
C) banking crises; increase in interest rates; unanticipated decline in price level
D) banking crises; increase in uncertainty; increase in interest rates
Answer: A
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12) The economy recovers quickly from most recessions, but the increase in adverse selection
and moral hazard problems in the credit markets caused by ________ led to the severe economic
contraction known as The Great Depression.
A) debt deflation
B) illiquidity
C) an improvement in banks' balance sheets
D) increases in bond prices
Answer: A
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13) ________ is a process of bundling together smaller loans (like mortgages) into standard debt
securities.
A) Securitization
B) Origination
C) Debt deflation
D) Distribution
Answer: A
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14) A ________ pays out cash flows from subprime mortgage-backed securities in different
tranches, with the highest-rated tranch paying out first, while lower ones paid out less if there
were losses on the mortgage-backed securities.
A) Collateralized debt obligation (CDO)
B) Adjustable-rate mortgage
C) Negotiable CD
D) Discount bond
Answer: A
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15) The originate-to-distribute business model has a serious ________ problem since the
mortgage broker has little incentive to make sure that the mortgagee is a good credit risk.
A) principal-agent
B) debt deflation
C) democratization of credit
D) collateralized debt
Answer: A
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16) Mortgage brokers often did not make a strong effort to evaluate whether the borrower could
pay off the loan. This created a
A) severe adverse selection problem.
B) decline in mortgage applications.
C) call to deregulate the industry.
D) decrease in the demand for houses.
Answer: A
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17) Agency problems in the subprime mortgage market included all of the following except
A) homeowners could refinance their houses with larger loans when their homes appreciated in
value.
B) mortgage originators had little incentives to make sure that the mortgage is a good credit risk.
C) underwriters of mortgage-backed securities had weak incentives to make sure that the holders
of the securities would be paid back.
D) the evaluators of securities, the credit rating agencies, were subject to conflicts of interest.
Answer: A
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18) The growth of the subprime mortgage market led to
A) increased demand for houses and helped fuel the boom in housing prices.
B) a decline in the housing industry because of higher default risk.
C) a decrease in home ownership as investors chose other assets over housing.
D) decreased demand for houses as the less credit-worthy borrowers could not obtain residential
mortgages.
Answer: A
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19) When housing prices began to decline after their peak in 2006, many subprime borrowers
found that their mortgages were "underwater." This meant that
A) the value of the house fell below the amount of the mortgage.
B) the basement flooded since they could not afford to fix the leaky plumbing.
C) the roof leaked during a rainstorm.
D) the amount that they owed on their mortgage was less than the value of their house.
Answer: A
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20) If a borrower takes out a $200 million loan in a repo agreement and is asked to post $220
million of mortgage-backed securities as collateral, the "haircut" is
A) 5%.
B) 10%.
C) 20%.
D) 50%.
Answer: B
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21) As "haircuts" increased during 2007-2009, financial institutions found that to borrow the
same loan amount now required ________ collateral.
A) less
B) no
C) more
D) default-free
Answer: C
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22) Although the subprime mortgage market problem began in the United States, the first
indication of the seriousness of the crisis began in
A) Europe.
B) Australia.
C) China.
D) South America.
Answer: A
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23) Which investment bank filed for bankruptcy on September 15, 2008 making it the largest
bankruptcy filing in U.S. history?
A) Lehman Brothers
B) Merrill Lynch
C) Bear Stearns
D) Goldman Sachs
Answer: A
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24) Typically, the economy recovers fairly quickly from a recession. Why did this not happen in
the United States during the Great Depression?
Answer: The 25% decline in the price level from 1930-1933 triggered a debt deflation. The loss
of net worth increased adverse selection and moral hazard problems in the credit markets and
increased and prolonged the economic contraction.
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